Fund in Focus: Legg Mason US Smaller Companies Fund

Just when the US looked poised for a robust economic recovery, developments on Capitol Hill had investors worried.

Fund in Focus: Legg Mason US Smaller Companies Fund

Fortunately, a resolution to increasing the US “debt ceiling” – albeit a temporary one – now looks on the cards.

However, the mere possibility of the US reneging on debt obligations was enough for the markets to fall back, and for brave investors willing to believe US politicians won’t take things back to the brink I believe US equity exposure could now be worth considering.

One fund worth considering in this regard is the Legg Mason US Smaller Companies Fund managed by Lauren Romeo. Smaller enterprises in the US should be the natural beneficiaries of an improvement in the domestic economy, and there is a great breadth of companies available to invest in.

However, it is worth bearing in mind that “smaller companies” for the definition of this fund can be quite large organisations of up to $2.5bn in size, and the managers often run their winners as they grow to become medium-sized companies of up to $5bn.

Although the long term record of this fund is good it has been through a tough patch in the last couple of years, in relative terms at least, with little exposure to utilities, consumer staples, banks and real estate, all areas that have outperformed the market as a whole.

According to Whitney George, co-manager of the fund with whom I recently met, the fund’s positioning in sectors with an unpredictable pattern of earnings such as industrials, energy and materials has been a drag on performance. Yet he believes that these are precisely the areas where there is the best value.

He explains their investment process emphasises the importance of companies’ “return on their investments”. Investing profits for future growth is essential for most businesses, but is something that doesn’t necessarily show up in the quarter-by-quarter profit figures that Mr George claims the market is obsessed with.

He believes that by looking under the bonnet of companies and taking a longer term view the fund is well placed to outperform once more. He also welcomes tighter monetary policy, feeling that ultra-low interest rates have interrupted the “natural selection” of the corporate world.

As rates normalise he believes robust companies that have invested properly in their futures will reassert themselves and weaker business models dependent on a low cost of borrowing will come under pressure.

One stock he especially likes is Cal-Maine Foods, the largest producer and distributor of eggs in the US. It continues to grow strongly, partly through the acquisition of smaller operators. Although the company is somewhat dependent on the wholesale prices of eggs, which fluctuates significantly, the company has a policy of paying out a third of any net income as dividends on a quarterly basis.

It results in a fairly lumpy dividend flow, but Mr George thinks the overall trend will be upwards, and the stock will be a steady performer. Myriad Genetics is also a favoured holding. Much uncertainty surrounds the company as it is suing a competitor that has allegedly copied its breast cancer testing procedure.

Mr George believes the firm is still well placed and should enjoy little competition in this area going forward. With a strong balance sheet to back it up he believes the stock should recover from its fall this year.

It is good to see the management team is sticking to their disciplined approach of investing in what they consider to be robust companies capable of growth without excessive borrowing. I continue to believe that this fund is worth considering for exposure to any continuing US economic renaissance – debt ceiling allowing. It remains part of our Foundation Fundlist of preferred funds across the major sectors.

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Rob Morgan

Rob Morgan is the pension and investments analyst at Charles Stanley Direct